Wealth management still a winner for banks, RBA says

Australian banks were unlikely to lop off their wealth management arms despite returns that haven’t reached pre-purchase hype, according to a Reserve Bank of Australia (RBA) analysis.

The RBA report, published in its September quarter ‘Bulletin’, says the Australian banks’ expensive wealth management buyouts, which began in earnest during the late 1990s, “have not lived up to initial expectations for income growth and cross-selling opportunities, and are generating lower returns than core banking activities”.

Moving into wealth management has also introduced a new range of risks for banks, the study says, including reputational dangers highlighted by a string of financial advice scandals reported in Australian media over the last couple of years.

The ensuing increase in government regulation was prompting banks to reconsider their wealth management units, the RBA report says. Decisions across the Tasman typically spill over to New Zealand where the Australian banks’ fully-owned subsidiaries have an even stronger grip on the wealth management market, particularly in the KiwiSaver space.

“In light of these [regulatory] developments, and the increased focus on capital requirements, banks have been rethinking the nature of their involvement in wealth management; in some cases, they have chosen to narrow the scope of their involvement in wealth management activities,” the paper says. “Nonetheless, it appears that wealth management activities are likely to remain part of banks’ businesses for the foreseeable future.”

Authored by Theodore Golat, the RBA report also notes return on equity (ROE) for wealth management businesses varies considerably among the big four Aussie banks with Westpac and the Commonwealth Bank of Australia (CBA) in particular more or less footing it with independent wealth managers.

“In contrast, returns on ANZ and NAB’s wealth management operations were lower,” the study says. “ROE for specialist wealth management firms are comparable to those of CBA and [Westpac], suggesting that ANZ and NAB’s lower returns are likely due to idiosyncratic factors such as differences in product mix. NAB in particular has a greater focus on life insurance activities where industry-wide profitability has been weak.”

After offloading 80 per cent of its life insurance business to Nippon Life last year, NAB’s wealth management performance was tipped to rise, the report says. ANZ chief, Shayne Elliott, also announced a review of its wealth management business earlier this year with a life insurance sale rumoured to be on the table. It is understood the bank was seeking a price of about 15-times earnings for the life unit, a multiple that has yet to spark much market interest.

Bank wealth management income has grown more slowly than traditional activities over the last few years due to a number of factors including increased competition and regulation in the funds management sector putting pressure on fees (with margins down 20 per cent) and “subdued growth” in the life insurance sector.

The cross-selling dream that fueled much of the late 1990s bank splurge on wealth management businesses has also yet to materialise, the paper says.

“In 2015, Roy Morgan reported that major banks had shown no significant advance over the past ten years in cross-selling wealth management products to customers,” the report says. “Nonetheless, it is likely that the acquisitions reduced banks’ average costs by increasing the size of their distribution networks.”

But, according to the RBA study, while Australian banks may seek to fine-tune their wealth management assets “these operations are, in most cases, generating returns in excess of the banks’ costs of capital, and have reduced the volatility of banks’ income through diversification”.

“The resilience of banks could also be increased by the lower leverage associated with ownership of wealth management activities,” the RBA report says. “The business of traditional banking involves a high proportion of debt funding but wealth management does not require leverage… As such, wealth management activities carry significantly less financial risk for the banking group and – all else being equal – may lower its overall leverage.”

Since embarking on a buying spree in the late 1990s the Australian banks have seen assets under management jump from around 13 per cent of total Australian market to about 20 per cent (A$530 billion) today, the RBA study says. CBA boasts the largest wealth management book, equating to about 20 per cent of its “consolidated assets”, while ANZ has the smallest exposure at 7 per cent.